Performance-sensitive debt: The intertwined effects of performance measurement and pricing grid asymmetry

Christina Bannier and Markus Wiemann

No 476, CFS Working Paper Series from Center for Financial Studies (CFS)

Abstract: This paper studies the use of performance pricing (PP) provisions in debt contracts and compares accounting-based with rating-based pricing designs. We find that rating-based provisions are used by volatile-growth borrowers and allow for stronger spread increases over the credit period. Accounting-based provisions are employed by opaque-growth borrowers and stipulate stronger spread reductions. Further, a higher spread-increase potential in rating-based contracts lowers the spread at the loan's inception and improves the borrower's performance later on. In contrast, a higher spread-decrease potential in accounting-based contracts lowers the initial spread and raises the borrower's leverage afterwards. The evidence indicates that rating-based contracts are indeed employed for different reasons than accounting-based contracts: the former to signal a borrower's quality, the latter to mitigate investment inefficiencies.

Keywords: Performance pricing; performance-sensitive debt; accounting data; credit ratings; underinvestment; collateral (search for similar items in EconPapers)
JEL-codes: G30 M40 (search for similar items in EconPapers)
Date: 2014
New Economics Papers: this item is included in nep-ban and nep-cta
References: View references in EconPapers View complete reference list from CitEc
Citations: View citations in EconPapers (1)

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Persistent link: https://EconPapers.repec.org/RePEc:zbw:cfswop:476

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